Governor Moore Proposes Major Tax Changes in Maryland to Address Chronic Budget Deficits

Facing a projected $3 billion budget deficit in fiscal year 2026, with forecasts of a growing gap over the next five years, Governor Wes Moore (D) has included about $1 billion in proposed tax increases in his budget proposal. The package features changes to individual income taxes (such as restructuring tax brackets and deductions, increasing the top marginal individual income tax rate, and introducing a surtax on capital gains income), the repeal of the inheritance tax offset by broader applicability of the estate tax, medium-term corporate income tax reforms, and modifications to excise taxes. While several elements of the package are structurally sound and align with the principles of simplicity, transparency, and neutrality, increasing the top marginal individual income tax rate and introducing a capital gains surtax could hurt Maryland’s competitiveness, especially given the wave of income tax reforms implemented in other states in recent years.

Individual Income Tax Changes

The most important revenue raisers in Governor Moore’s tax proposal are individual income tax provisions. Several structural changes are proposed, including the replacement of the four lowest tax brackets with a single 4.7 percent rate, two additional brackets for top earners (with rates of 6.25 percent and 6.5 percent), a 1 percent surtax on capital gains income for households earning more than $350,000 in federal adjusted gross income, and several modifications to standard and itemized deductions and tax credits.

According to the budget documents, these changes would generate close to $820 million for the state’s general fund in fiscal year 2026 ($691.5 million from the restructuring of brackets and deductions and $128 million from the temporary capital gains surtax).

Individual income tax rates and brackets under the current system and the proposed tax changes are shown in the table below. The number of tax brackets decreases from eight to seven, the top marginal tax rate increases by 0.75 percentage points (from 5.75 percent to 6.5 percent), and the four lowest brackets are consolidated into one. Additionally, the marriage penalty remains in the new system, perpetuating the unequal treatment of single filers and married couples filing jointly, favoring the former tax status.

Current and Proposed Individual Income Tax Rates and Brackets in Maryland

Other elements of the proposal include eliminating itemized deductions and doubling the standard deduction (which, in tax year 2024, was $2,700 for single filers and $5,450 for married couples filing jointly), while also removing the standard deduction phase-in. This is a step in the right direction and generally aligns with the principles of simplicity and transparency. Curtailing deductions is better policy than raising rates. Notably, even the modified standard deduction in Maryland would still be low compared to Virginia (currently $8,000 for single filers) and DC (currently $15,000 for single filers, reflecting the District’s conformity with the federal tax code).

The proposal does not address inflation adjustments for any of the income tax provisions. In a volatile economic environment with higher inflation compared to the pre-pandemic era, the absence of such adjustments could lead to unlegislated tax increases in future years. This issue should be addressed by annually adjusting brackets and the standard deduction for inflation to prevent unintended tax burdens.

One of the most problematic aspects of the proposal, from a tax competitiveness perspective, is the 1 percent surtax on capital gains. The positive aspect of this surtax is that it is a temporary measure designed to boost revenues in the short term and is scheduled to expire in four years. However, if enacted, Maryland would become only the second state after Minnesota to implement such a surtax. While this change would not affect individuals with federal adjusted gross income of $350,000 or below, it would negatively impact high earners—the group most mobile and responsive to tax increases. This point has been emphasized in recent academic studies and is supported by IRS migration data. If the goal of the proposal is to accelerate economic growth in the state, it may be challenging to achieve if some of the most productive and entrepreneurial residents have more reasons to relocate to other jurisdictions.

In total, high earners (individuals with an adjusted gross income of $1 million or more) living in counties with a 3.2 percent local income tax should expect their combined state marginal tax rate to reach 10.70 percent for some income. This includes the state’s top rate of 6.5 percent, the local rate of 3.2 percent, and the 1 percent capital gains surtax.

 

 

The map above shows that this combined marginal tax rate for high earners in Maryland would be one of the highest among the state’s neighbors, only 0.05 percentage points lower than in DC and more than 4 percentage points higher than in Pennsylvania, Virginia, and West Virginia. This differential is significant if Maryland aims to attract more high-net-worth individuals, especially given that the state is currently experiencing net outmigration and ranks in the bottom 10 by this metric, according to the most recent data from IRS, Census, and U-Haul. Importantly, the District of Columbia is prohibited from taxing nonresident income, which has historically made it attractive for many DC workers to live in Maryland or Virginia. Should Maryland’s income tax rates begin to approximate the District’s, that advantage—weighed against other considerations, including proximity to work—could disappear.

Other Tax Changes

Corporate income tax changes are also included in the package, but they take effect in fiscal year 2028, meaning there will be no immediate fiscal consequences in fiscal year 2026. Specifically, the corporate income tax rate would decrease from 8.25 to 7.99 percent over two years starting in 2028. Additionally, the state would adopt water’s edge combined reporting, which is significantly less problematic than the worldwide combined reporting proposed in Maryland last year.

Another positive development is that the inheritance tax would be eliminated. Maryland is currently the only state in the nation that imposes both inheritance and estate taxes. This change would be paid for by lowering the estate tax exemption, which is not ideal but keeps this proposal revenue neutral.

Several excise taxes would see higher rates under the proposal, specifically the sports wagering tax (increasing from 15 to 30 percent) and the table game tax (rising from 20 to 25 percent). These changes are projected to generate nearly $130 million for the state’s general fund. Additionally, the governor proposes increasing the cannabis tax rate from 9 to 15 percent, starting in fiscal year 2027.

Finally, the proposal includes a $0.75 tax on deliveries, with certain exemptions. Colorado and Minnesota currently impose retail delivery fees, though at lower rates ($0.28 and $0.50, respectively). These fees are an inefficient way of raising revenue, especially compared to alternatives like a very modest increase in the diesel tax, which would better capture the cost of road usage by shippers without creating a new narrowly tailored tax with high compliance costs.

Is the Proposal Sound?

While several proposed changes align with the principles of sound tax policy (e.g., doubling the standard deduction, reducing the number of income tax brackets, and eliminating the inheritance tax), the overall proposal will affect Maryland’s economic growth potential. And while any effort to raise $1 billion in taxes will have some impact on the economy, the administration passed on some options that would be more economically harmful. This plan represents a more responsible approach than tax increases proposed in other states in recent years, as it does not rely on gimmicks or lean heavily on novel tax policies.

Sales taxes, which are entirely omitted from the proposal, are generally less damaging to economic growth than income taxes—the main revenue raiser in the plan. Maryland’s sales tax rate of 6 percent is below the national average (especially since localities in Maryland, unlike those in most other states, are not authorized to impose local sales taxes), and its sales tax base is relatively narrow. Expanding the sales tax base to include consumer services or modestly increasing the rate presents an opportunity to raise much-needed revenue in a less distortive way while preserving Marylanders’ incentives to live and work in the state—factors that are likely to be negatively affected under the current proposal.

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